You may have read Tony Robbins' "Money" or Robert Kiyosaki's "Rich Father, Poor Father", which frequently refer to the 401(k), a way for Americans to save for retirement through their employer whilst taking advantage of tax benefits. Unfortunately, there is no direct equivalent in Italy. But don't worry, there are alternatives! We'll explore these options, so you can start planning your retirement future in a similar way to Americans using 401(k)s.
What is a 401(k)?
A 401(k) is a type of retirement savings plan that is offered by employers to their employees in the United States. The name "401(k)" comes from the section of the Internal Revenue Code that governs these plans. Under a 401(k) plan, employees can contribute a portion of their pre-tax income into a retirement account, which is then invested in a variety of funds. The contributions and earnings in the account grow tax-free until the employee withdraws the money in retirement.
Employers may also offer matching contributions, which means they will contribute a certain percentage of the employee's contribution to the plan, up to a certain limit. This can be a valuable benefit for employees, as it effectively increases their retirement savings without requiring additional contributions from their own pocket. For 2023, the annual contribution limit for a 401(k) is $20,500 for individuals under the age of 50. There are also rules governing when and how the money can be withdrawn.
It seems like the 401(k) is a great system for Americans to retire comfortably. Unfortunately, you're unable to open a 401(k) in Italy. So is there an equivalent we should go with instead?
The Italian pension system
The Italian pension system is different and more complicated than that of the US. The system is based on a principle of intergenerational solidarity. Current generations contribute to the system through social security contributions, and in return, are entitled to receive a pension when they reach retirement age. The system is called pay-as-you-go, because the revenue collected in each period from workers' contributions is used to finance the pensions paid in that same period, and there is no real investment of the contributions.
The Italian pension system has been the subject of debate because of the ageing population and the increasing number of pensioners compared to the number of workers paying contributions. This has led to reforms and changes in the pension system over the years, with the aim of ensuring the financial sustainability of the system itself. However, given the demographic trend of the Italian population and employment figures it is very likely that this system will not be able to guarantee decent pensions for citizens.
In addition to the public pension system, however, one can opt for a supplementary pension fund, through which, with periodic investments during one's working life, one can supplement the public pension. This system is very advantageous and very similar to a 401(k) as it provides tax advantages to employees and allows for an additional contribution from one's own company.
The Italian equivalent of a 401(k): Fondo Pensione Integrativo
As noted above, many Italians choose to supplement the state pension system with additional forms of retirement savings. This can be done through 'Fondo Pensione Integrativo' (known in English as 'Supplementary Pension Funds') which allow participants to invest part of their salary to obtain an additional pension. These funds are managed by asset management companies and offer greater investment flexibility than the state pension system.
Workers can make contributions to various types of funds, which may be open to all workers or only to certain categories. In addition, contributions paid may be deducted from gross income up to an amount of €5,164.57 per year. Taxation is facilitated and proportional to the duration of the fund investment, from 15% up to a minimum of 9%. In addition, for some funds the company is obliged to match the employee's contributions with ceilings, with a match similar to the US 401(k).
This mechanism seems useful and functional. However the costs of supplementary pension funds are very high (up to 3.44% per annum for fully equity funds), and erode a large part of the returns produced, thus eliminating part of the advantages, fiscal and otherwise, that these instruments offer.
Best alternative: investing in ETFs
What is an ETF? An ETF (Exchange-Traded Fund), or exchange-traded fund, represents a collection of tens, hundreds or even thousands of stocks or bonds. Diversification is one of the most attractive aspects when considering holding an ETF as opposed to individual stocks or bonds. By investing in a single ETF, you have the opportunity to invest in thousands of companies at once. Most ETFs are designed to follow a market index, which is why they are sometimes called 'trackers'. The index-based style of investing is known as 'passive investing'.
In the case of passive investing, one decides not to react to daily price changes, knowing that the market tends to rise over the long term. Evidence shows that this strategy is more likely to offer higher returns.
But why invest in ETFs?
There are many reasons why investing in ETFs is one of the best options for growing one's assets.
Index investors pay low fees because ETFs are very cheap to run. It's simple to track an index: all that is required is buying the stocks in the index, and update when the index changes. It doesn't require expensive analysts or other specialists.
One of the goals of index investing is to diversify as much as possible. Through diversification across many countries and sectors, you eliminate unnecessary risk. And you also benefit from the growth of the best companies in the world, not just the large German, French or American companies you know. By investing in as many companies as possible, you're almost sure of including the winners, namely the minority of stocks that are responsible for the majority of the returns.
One of the most famous indexes is the S&P 500, which contains the 500 biggest American companies. Large companies such as Apple, Google or Amazon are represented in the S&P 500. The graph below shows the growth of the S&P 500 index since 1992. A €10,000 investment in 1992 in an ETF that tracks the S&P 500 index would have resulted in over €210,000 by the end of 2022, or an average 10.4% return per year!
Invest with low amounts
A big advantage of investing in ETFs is the possibility to start with small amounts. It is possible to start investing with as little as €50. This makes ETFs accessible to everyone, especially to young people who are starting their careers and want to grow their assets using their savings. Many other investments, such as those in the real estate market, require considerably higher resources. Just the initial payment for the purchase of a property requires tens of thousands of euros.
Why investing in accumulation ETFs is tax-advantageous
Most companies distribute dividends to their shareholders, usually on a quarterly basis. Dividends are a means by which companies share their profits with their shareholders. The same mechanism also applies to an ETF that holds a series of securities. As an ETF investor, you are entitled to a share of the dividends issued by the different companies within the fund. However, in Italy, dividends are subject to a taxation of 26%. Investing in accumulation ETFs is a tax advantage because dividends are reinvested directly into the fund. Since you do not receive cash dividends directly, you are not subject to taxation. Therefore, similar to an individual retirement plan (401(k) in the US), taxes will only be due when withdrawals are made from the invested capital.
Investing in ETFs vs Fondo Pensione Integrativo
Curvo: the easiest way
In Italy, there are two main ways to approach index investing and ETFs:
- Through a broker. A broker is a middleman that gives you access to the stock markets and allows you to buy and sell ETFs. It gives you the most flexibility because you're in control of what you buy. But it also means you're fully responsible for the management of your investments.
- With an app like Curvo. The goal of Curvo is to address the challenges of managing your own investments through a broker. The work is done for you so you don't have to worry.
The difficulties of investing through a broker
Investing independently in a portfolio of index ETFs through a broker can be a complex undertaking. One must select indices, construct a balanced portfolio that fits one's financial objectives, and choose ETFs that replicate those indices. Each step involves a wide range of options to choose from. Furthermore, it is crucial to understand the Italian tax system, learn how to use a broker and know when and how to rebalance your portfolio.
You may not have the time, motivation, or simply the interest to tackle this complex learning curve. Or, you may want to devote your time to other activities that you consider more important than managing your investments.
Curvo, the easier way
We created Curvo to address the challenges of investing through a broker. We started investing through a broker ourselves. Our founder Yoran spent hours researching and figuring out how to build an optimal portfolio to prepare for his financial future. He read books, scoured the web and got lost on Reddit. Finding the right resources was challenging. From this experience, he realised why none of his friends were setting up their own investments through a broker: it's too complicated. At the same time, we've seen that index investing is such a powerful tool to grow our wealth. So it made sense to build something to solve this problem. Enter Curvo.
Diversified portfolio built for you
We understand that it's hard to build the portfolio of index funds that's right for you, so creating an account starts with answering a questionnaire on your investment goals and your appetite for risk. You’ll then be assigned the best portfolio of index funds that matches your goals and risk tolerance. Each portfolio is managed by NNEK, a Dutch investment firm supervised by the Dutch regulator (AFM). The portfolios are globally diversified and invest in over 7,500 companies.
Each portfolio consists exclusively of equity and bond index funds, and has been tax-optimised for Italian citizens. This means you do not have to worry about paying tax on dividends.
Sustainability at the core
Your investments focus on one guiding principle: don't invest in companies that are considered destructive to the planet. This means that sectors like non-renewable energy, vice products, weapons and controversial companies are excluded from the portfolios.
Built for monthly investing
You can set up a monthly savings plan where your selected amount is automatically debited from your bank account and invested in your portfolio at the start of each month. This way, it's easy to adopt the best saving habits. Also, you are not charged any transaction fees. Lastly, your investments with NNEK, through the Curvo application, support fractional shares meaning all your money is invested. So it's ideal for monthly investing.
No learning curve
Our goal is to solve all the complexities of index investing through a broker. This means you don't have to worry about:
- Understanding the Italian tax system. The portfolios are already tax-optimised.
- Choosing a broker. There are many options available and it can be hard to pick the one that you feel most comfortable with.
- Rebalancing. It is made sure that your portfolio is kept in balance.
- Calculating and executing your orders every month. It's all set up for you.
- Keeping discipline. We help you stay the course!
Learn more about how Curvo works.
In conclusion, although there is no 401(k) retirement savings plan offered by employers in Italy, there are still alternatives available to help people save for retirement. Among the most popular options are supplementary pension funds, but they have limitations and are not fully equivalent to a 401(k). Investing in accumulation ETFs is an alternative that comes close to the benefits of a 401(k) and the prospect of a peaceful retirement. However, it is crucial to consider personal financial goals before choosing a retirement savings plan.
In this context, the Curvo app proves to be a valuable app for managing personal finances and retirement planning. Overall, it is essential to start saving early and contribute regularly to ensure a comfortable retirement.
Questions you may have
Can I transfer my 401(k) to Italy?
Unfortunately you can't. If you decide to transfer your 401(k) outside of the United States, you'll face a US tax liability and most likely a 10% penalty for an early withdrawal. You also can't really transfer it to an equivalent in Italy. You'll have to withdraw your funds and then invest it separately in Italy.
What is the 401(k) equivalent in Europe?
There is currently no equivalent across Europe, although the Pan-European Pension Plan (also known as PEPP) is attempting to address this. It has yet to be rolled out across Europe by the member states but it's a promising evolution.